March 29, 2012

Members of the House Financial Services Committee pressed Consumer Financial Protection Bureau head Richard Cordray on the definition of "abusive" lending practices in an oversight hearing today.

"How can companies comply with this law?" asked Rep. Sean Duffy (R-Wis.), who called it "a subjective standard with no bright line.”

The Dodd-Frank Act that created the CFPB gives the agency the authority to police lending practices that are unfair and deceptive – both familiar terms from other consumer protection statutes – but added a new standard: abusive. In Section 1031 of the law, abusive practices are defined as those that “materially interfere” with a consumer’s ability to understand a product or service and/or take “unreasonable advantage” of the consumer’s lack of understanding.

Cordray stressed repeatedly that “Congress defined [abusive], not us…My job as director is to enforce the law Congress enacted.” But he acknowledged that “we’ve been trying to puzzle through how a pretty straightforwardly defined term in the law should be applied.”

“Will you use your enforcement authority rather than rulemaking authority to set standards of what is abusive?” asked Rep. Spencer Bachus (R-Ala.), who chairs the Financial Services committee.

Cordray didn’t answer directly, but said the CFPB was trying to be “careful, measured and thoughtful.” He later added, “There’s a gray area and a core. Within the core, there’s no question people are perpetuating acts they know are wrong but are doing it anyway… Enough misconduct is occurring in the core that we’d be well served to focus on that at the outset.”

Could a lender or institution be liable “anytime a consumer simply doesn’t understand a product or service?” Bachus asked. Cordray said no – the key, he said, was taking “unreasonable advantage,” adding that companies “often have a pretty good sense of whether they’re doing this or not.”

Cordray also stressed that “’reasonable’ is a common term in the law,” and that the “reasonable person standard” is a cornerstone of tort law.

Cordray did acknowledge it was possible that a product or practice could be abusive without also being unfair. For example, if a lender convinced an 80-year old widow who had nearly paid off her mortgage to refinance her home with an exotic loan, that could be considered abusive, but if the same loan was offered to a more sophisticated investor, it might not be.

That didn’t sit well with Duffy, who noted that the same practice “because of a person’s background, education, or experience may be abusive” in one case, but not another. “The standard isn’t a reasonable person, but an individual,” he said.

“It’s a facts and circumstances test,” Cordray said. “Most good businesses know an abusive practice when they see it.”

Rep. Brad Miller (D-N.C.) defended the statutory language. “I’m puzzled by the complaints over the use of subjective language in the statute,” he said. “Subjective terms are used throughout the law. That’s been viewed as a strength of our legal system…Clarity can lead to inflexibility. There needs to be some subjectivity to reach new circumstances.”